UPDATE 3-Italian govt bond yields higher ahead of key budget meeting

LONDON, Sept 27 (Reuters) - Italian government bond yields ended higher across the board on Thursday as nerves rattled the market ahead of a meeting of key Italian politicians to decide on the country’s 2019 budget proposals.

Earlier on Thursday Italian debt sold off sharply on a report by Corriere della Serra that the budget meeting was likely to be delayed. But after it was confirmed that the meeting would go ahead as planned, a chunk of the losses was retraced, though yields did close higher on what proved a jittery day for Italian bond markets.

The new twist in the Italian budget saga stood in contrast to recent signs that Economy Minister Giovanni Tria and coalition partners Matteo Salvini and Luigi di Maio had reached an agreement. Tria has pledged to keep the deficit under control, having defied calls for higher spending.

Those hopes had prompted a rally in Italian bonds, but the rally faded after a report late on Wednesday that the far-right League had sided with coalition partner 5-Star to push for a higher deficit of 2.4 percent of GDP, which renewed concerns about higher government spending.

Italian bond yields fell from the day’s highs, though they were still 5-8 bps up on the day by the close.

Its two-year yields were at 0.79, having jumped 23 bps to a high of 0.96 percent in early trade. Five-year yields edged back down to 1.91, having surged 19 bps to 2.04 percent , and 10-year yields were at 2.91 percent.

The euro slipped 0.65 percent on the day to $1.1663 . Shares in Italy’s banks, big holders of government bonds, were down 1.33 percent at the close.

Markets were also spooked earlier by a La Stampa report that Economy Minister Tria planned to resign. The ministry denied the report.

“(The sell-off) is in contrast to the recent move into Italy,” DZ Bank analyst Rene Albrecht said. “We saw investors buying Italian debt because of the carry, and now they are worried that the Italian finance minister could resign and the budget could be blown. Uncertainty is higher than before.”

The sell-off pushed the premium investors demand for holding Italian bonds over the German benchmark out by 10 bps to a 10-day high of 247 bps, though it later tightened back to 236 bps.

However, Italy did generate solid demand for an auction of October 2023 and December 2028 bonds, raising the maximum targeted amount of 5.25 billion euros from the sale.

Higher-grade euro zone government bond yields were mostly flat on the day, with the yield on Germany’s 10-year government bond, the region’s benchmark, unchanged at 0.53 percent. (Reporting by Virginia Furness Editing by Sujata Rao and Mark Heinrich)